Challenging third term looms for Germany's Merkel

BERLIN (Reuters) - Nearly three months since an election forced her into coalition talks with rival Social Democrats (SPD), Angela Merkel is on the verge of securing a third term, a feat achieved by only two other German chancellors in the post-war era.

But her new government, to be sworn in next week once grassroots SPD members have given a green light, begins life with low expectations and modest ambitions, its policy plans condemned by economists at the country's largest bank as a "launchpad to the past".

Merkel's first two terms were shaped by the global financial crisis and acute turmoil in the euro zone. She has emerged as Europe's dominant leader, earning plaudits for her steady "step by step" management style and bragging rights for the strength of the German economy.

Her third term may be less spectacular and more domestically focused. The SPD, traumatized by its first coalition with Merkel from 2005-2009 and with one eye already on the next vote in 2017, could prove a more difficult partner this time around.

Merkel, by agreeing to a left-leaning policy program in order to lure the SPD, could take much of the blame if German economic growth slows further, unemployment continues to edge up and industry loses competitiveness to more nimble rivals.

"I don't know how the last grand coalition would have ended if the global financial crisis hadn't forced us to cooperate," a top Merkel aide told Reuters on condition of anonymity. "This one will be even more difficult to handle."

On Saturday, the final hurdle to her new "grand coalition" government is expected to fall, when the results of a referendum of close to 475,000 SPD party members are unveiled.

That should pave the way for announcements on a new cabinet on Sunday: conservative veteran Wolfgang Schaeuble is widely expected to return as finance minister, with Frank-Walter Steinmeier and Sigmar Gabriel of the SPD seen likely to become foreign and economy ministers, respectively.

DOMESTIC FOCUS

On Tuesday, Merkel would then be formally elected in a vote in the Bundestag lower house, becoming the third chancellor after Konrad Adenauer and Helmut Kohl to secure three terms.

The next day she is expected to travel to Paris for a meeting with French President Francois Hollande before heading to Brussels for an EU summit, at which leaders must clinch an elusive deal on the bloc's ambitious "banking union" project.

In the new year however, Merkel's focus will shift back to the domestic front. By Easter, the "grand coalition" wants to agree a reform of Germany's complex renewable energy law, blamed for soaring electricity costs.

By the summer, reforms of the pension system - more generous payouts for mothers and exceptions to the 67-year retirement age - must be pushed through, and progress made on introducing a minimum wage of 8.50 euros per hour.

It is these measures, and the lack of meaningful "growth-friendly" investments, that have German industry worried.

Deutsche Bank economists have said the 185-page policy blueprint agreed by Merkel and the SPD contains "too many treats, too little growth stimulus, no structural reforms".

Measures such as a minimum wage, if they boost domestic demand, will help counter international criticism that Germany has not done enough to reduce its giant current account surplus - one symptom of an unbalanced world economy.

But Deutsche is not alone in worrying about what it will mean at home.

"We have had a stellar labor market performance to this point, but turning back the clock on some hard fought reforms from the Schroeder era can change that situation," said Elga Bartsch of Morgan Stanley, referring to the welfare and labor market changes pushed through by Merkel's SPD predecessor.

"In my mind the German economy is not as strong as some people think it is," she added. Morgan Stanley is forecasting growth of just 0.4 percent this year and 1.4 percent next, not the kind of expansion one has come to expect from Europe's top economy.

"PERMANENT CONFLICT"

The long legislative agenda is likely to preoccupy the ruling parties through much of 2014, forcing them to set aside their differences and work together.

But Merkel's last coalition with the SPD showed that internal rivalries may be hard to keep under wraps for long.

Even if the SPD leadership has convinced the rank-and-file to join forces with Merkel, they are doing so grudgingly.

Party chairman Gabriel will face constant pressure from below - including from powerful voices outside the government like SPD state premier Hannelore Kraft - to impose the party's policies on the new government.

With a left-leaning majority in the Bundestag - together the SPD, Greens and far-left Linke party hold 320 of the 631 seats - the implicit threat of rebellion will hang over the government like a cloud that darkens as the 2017 election approaches.

"Expect permanent conflict," said Frank Decker, a political scientist at Bonn University. These parties are rivals. It won't be harmonious."